Second quarter GDP report reflects what did happen, not what will.
The U.S. economy contracted 9.5% through the second quarter, the worst single-quarter decline in gross domestic product (GDP) since the Commerce Department started tracking it in 1947. Keep in mind GDP historical measures ‘output’ or production growth in our nation. Given the entire country was either strongly encouraged or mandated by law to dramatically decrease that activity (if not shut down completely), so it has long since been expected that the report would show a major dip. We are hearing a lot confusion as to why/ how the market can be holding up so well when GDP is down and Covid-19 cases are up. The short answer to that complex question is that companies are valued, not on what they have done, but what they will do.
When Covid hit initially, we had no idea how bad it was going to get and worst case scenarios on what companies ‘would do’ looked pretty grim, hence the sharp market decline. Today, even though we don’t know exactly how it plays out, we know a number of ways that it won’t play out (not an apocalypse, won’t wipe out ½ the nation, etc. ). We also know we can adapt in many ways, we know how to be reasonably protective of ourselves, and while we know some areas are still struggling (airlines, cruise ships, etc.), we know some areas of business are doing fantastically well (areas of real estate, technology, etc). The US economy clearly is not being brought to its knees by Covid in the medium to long term (although for a while it did), so if there is a strong sense that earnings either are or will be strong shortly, I would ask the question the other way around and phrase it to say “Why wouldn’t the market be where it is, pending higher moves as the situation improves?”
As mentioned before, trillions in stimulus already in play with very likely more trillions to come will have an effect and low rates will likely be maintained to stimulate things to keep moving in the right direction. Broadly speaking, consensus earnings estimates are higher a few quarters from now than they were a few quarters ago, and earnings lead to profits and profits lead to return on investment in the long run, so that’s the focus we maintain.
As life continues despite these challenges, we hope you are finding moments of joy and that you and your families are experiencing good health and wellness. As always, we encourage you to reach out if you have any questions, about the markets, your financial plan or anything else. Thank you for your continued trust.
Additionally, here are a number of details on ongoing developments that we are keeping our eye on.
% Gain/Loss Year to Date
Year to Date 2020
- We believe the positives of global stimulus and low rates outweigh the potential negatives, Joey Madere, senior portfolio analyst, Equity Portfolio & Technical Strategy said. Though we expect volatility, moments of market weakness should be seen as an opportunity.
- There is reason to be watchful, but strong corporate earnings, positive vaccine news and a commitment from policymakers should alleviate broader concerns.
- Currently, the markets will be watching stimulus package developments in Washington closely, but after that, attention will likely turn to the November elections as candidates reveal policy plans.
- Rising COVID-19 cases and weekly claims for unemployment benefits remain at high levels, which could be significant headwinds for recovery, Chief Economist Scott Brown said.
- GDP fell sharply in 2Q20. Weakness was widespread, but especially pronounced in consumer services, transportation equipment and energy exploration.
- Consumer spending figures for May and June showed a sharp, but partial rebound, but the future patch will depend on the virus, efforts to contain it and the amount of fiscal support.
- Positive S&P 500 performance is masking pressures below the surface, since about half of the index’s companies are technology or health care, two sectors well positioned for the pandemic environment. Looking outside the index, 40% of all stocks are down over 20% from their 52-week high points.
- Recent stock performance is split along other lines as well, said Madere. “Large stocks are dominating small ones, growth is dominating value, and non-dividend payers are dominating dividend payers.”
- “We continue to stick with the sectors best positioned for this environment – tech, health care, communications services – along with consumer discretionary because of pockets of strength with e-commerce and the effect of government stimulus boosting consumer spending,” Madere said.
- Energy companies are keeping a close eye on the elections, notes Pavel Molchanov, equity research analyst. Presumptive Democratic presidential nominee Joe Biden has pledged to invest $2 trillion over four years to transition toward low-carbon energy and also enact a strict timeline for nationwide carbon reduction, which could be a tough sell, even with a Democratic Senate. However, presidents have more leeway on regulatory matters that don’t require congressional support.
- Second-quarter corporate earnings season surprised on the upside, with aggregate results 11.5% above estimates, and well above the five-year average of 4.7%. Industrials and health care are taking the lead here.
- A number of major global currencies gained value against the U.S. dollar in July, including the euro, British pound, Japanese yen and Chinese yuan.
- The continuation of suppressed coronavirus cases in Asia and across Europe manifested in firmer near-term economic indicators for the regions, providing some hope for recovery, European Strategist Chris Bailey said.
- There are growing concerns about new legislation impacting Hong Kong’s relationship with mainland China. The U.K. has followed the U.S.’s lead in blocking major Chinese suppliers from participating in 5G wireless network buildouts. Other nations have shown reluctance in following this lead.
- The bond market seems to be taking very little direction based on economic data, as it has been driven primarily by central bank policy, said Doug Drabik, managing director for fixed-income research.
- State and local government revenues are far behind budgets, but spending has remained largely where it was at the beginning of the year, Chief Fixed Income Strategist Kevin Giddis said. Municipal bond buyers will be paying special attention to see if states and municipalities are included in the next federal stimulus package.
- Investment-grade BBB-rated corporate bond spreads narrowed again for the third consecutive month. Demand for high-quality corporate bonds remains strong.
- High-yield spreads have also narrowed, in part due to demand and continued investor pursuit of any kind of yield, Drabik said.
Brad Hudson, CFP®, CIMA®, AIF®
CERTIFIED FINANCIAL PLANNER™ | Certified Investment Management Analyst℠ | Accredited Investment Fiduciary®
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910.399.7765 • 1.888.588.0878
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